OREANDA-NEWS. Fitch Ratings has affirmed Banca Popolare di Vicenza's (Vicenza) Long-Term Issuer Default Rating (IDR) and senior debt ratings at 'B-'. The ratings have been removed from Rating Watch Negative (RWN) following the recapitalisation of the bank through a EUR1.5bn capital increase fully subscribed by the Atlante fund.

The Outlook on the Long-Term IDR is Negative due to the ongoing challenges the bank faces in maintaining an adequate capital position given its structurally unprofitable business model, the possibility of further losses and the damage suffered by its customer funding franchise.

Fitch has also downgraded the bank's Viability Rating (VR) to 'f', removed it from RWN, and upgraded it to 'b-'. The downgrade acknowledges that without the extraordinary support received by the bank in the form of the capital injection, it would have been put in resolution due to the material losses it reported in 2015. This represents a failure by the bank according to Fitch's definitions. The subsequent upgrade reflects Fitch's view that the bank has returned to viability following the recapitalisation.

A full list of rating actions is at the end of this rating action commentary.

KEY RATING DRIVERS

IDRS, VR AND SENIOR DEBT

Following the downgrade to 'f' and subsequent upgrade to 'b-', Vicenza's VR is now aligned with its Long-Term IDR and the ratings are driven the bank's standalone creditworthiness.

The bank's IDRs, VR and senior debt ratings reflect Fitch's view that the bank's capitalisation remains weak, despite the capital injection, and that it could weaken further in the foreseeable future. This is because of the possibility of further credit losses, particularly if impaired loans are fair-valued to accelerate their disposal. Other pressures on capital include its structural unprofitability, partly due to a heightened average cost of funding, and the decision of Cattolica Assicurazioni to exit the existing bancassurance agreement. Fitch considers that current capital levels only allow for a limited buffer to absorb further additional credit impairment charges given the large scale of the problem.

Vicenza's liquidity has weakened significantly after the material deposit outflows between late 2015 and the completion of the capital increase in May 2016 and has become vulnerable to market sentiment. As a result of its inability to easily access institutional and retail term funding, BPV's funding profile has become skewed towards ECB funding and its balance sheet encumbrance is high. Management is concentrating on repairing its deposit franchise through a number of commercial actions, which might have a positive impact on liquidity but are also likely to weigh negatively on its net interest income.

Deposits stabilised since the completion of the capital increase, but we believe the bank's deposit base remains highly vulnerable to market sentiment around the bank and the Italian banking sector in general. Its liquidity position, as defined by its liquidity coverage ratio has become highly volatile.

BPV's asset quality is weak with gross impaired loans at over 30% of gross loans, after having dramatically increased since mid-2015 when the new management made an in-depth review of the loan portfolio, reclassifying a substantial amount of exposures to impaired following ordinary deterioration but also its misconduct in placing its own capital increases in 2013 and 2014 through granting of financing. Coverage levels of impaired loans have since increased, but we believe further charges on its impaired exposure are likely, particularly if the bank intends to accommodate doubtful loan disposals, as indicated in its most recent strategic guidelines, at the current valuation marks.

Including the EUR1.5bn capital injection, the bank estimated a pro-forma CET1 ratio of 12.8% based on end-2015 numbers, 255bp or EUR650m above its Supervisory Review and Evaluation Process (SREP) requirement. However, our assessment of capitalisation reflects the high capital encumbrance by unreserved impaired loans, which remains at 150% of Fitch Core Capital. Furthermore, a portion of this capital could still be eroded by losses, which could be driven by loan impairment charges or losses on doubtful loan disposals and/or further provisions for risks and charges.

The bank's exposure to contingent risks from shareholders' complaints has also heightened after its share price dropped dramatically to EUR0.10 and opened up the risk of losses from future claims that could originate from these complaints. The bank has put in place a properly staffed internal structure to handle this risk and has already booked EUR137m charges against possible future claims.

Fitch rates BPV's senior unsecured obligations in line with the bank's Long-Term IDR. Fitch has also assigned a Recovery Rating of '4' (RR4) to these instruments to reflect average recovery prospects in the event of a default. We expect recoveries would be in the range of 31%-50%, reflecting the bank's considerable share of encumbered assets and a small Tier 2 buffer.

SUPPORT RATING (SR) AND SUPPORT RATING FLOOR (SRF)

The SR and SRF reflect Fitch's view that senior creditors can no longer expect to receive full extraordinary support from the sovereign in the event that the bank becomes non-viable. The EU's Bank Recovery and Resolution Directive (BRRD) and the Single Resolution Mechanism (SRM) for eurozone banks provide a framework for the resolution of banks that requires senior creditors to participate in losses, if necessary, instead of or ahead of a bank receiving sovereign support.

SUBORDINATED DEBT AND OTHER HYBRID SECURITIES

Subordinated Tier 2 debt issued by BPV is rated 'CC' and is notched off once from the VR to reflect the instruments' loss severity and once to reflect non-performance risk as Fitch views that these instruments could be vulnerable to burden sharing ahead or upon a hypothetical resolution scenario. Fitch also assigns a Recovery Rating of '5' (RR5) to these instruments to reflect below average recovery prospects for subordinated bondholders.

RATING SENSITIVITIES

IDRS, VR AND SENIOR DEBT

The Outlook on the Long-Term IDR is Negative. The bank's IDRs, VR and senior debt ratings are sensitive to the extent of the losses which it is likely to incur, if and when it disposes of its doubtful loans. We believe that this would be a necessary measure for it to return to profitability and for confidence to be fully restored.

Downside risk also includes further erosion of its liquidity profile, the execution of a new strategy, and the need to improve risk controls before growth can pick up. The bank faces the prospects of having to restructure in an economic environment that is likely to provide it with strong headwinds.

Upside potential to the ratings is limited until the bank becomes capital generative.

SR AND SRF

An upgrade of the SR and any upward revision of the SRF would be contingent on a positive change in the sovereign's propensity to support Vicenza. While not impossible, this is highly unlikely, in Fitch's view.

SUBORDINATED DEBT AND OTHER HYBRID SECURITIES

Vicenza's subordinated debt rating is primarily sensitive to a change in the VR, which drives the debt rating, but also to a change in Fitch's view of non-performance or loss severity risk relative to Vicenza's viability.

The rating actions are as follows:

Long-Term IDR: affirmed at 'B-', off RWN; Negative Outlook

Short-Term IDR: affirmed at 'B'

Viability Rating: downgraded to 'f', off RWN and subsequently upgraded to 'b-'

Support Rating: affirmed at '5'

Support Rating Floor: affirmed at 'No Floor'

Long-term senior unsecured notes and EMTN programme: affirmed at 'B-/RR4'; off RWN

Short-term rating on EMTN programme: affirmed at 'B'

Subordinated debt: affirmed at 'CC'/'RR5'